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New Zealand Makes Good On R&D Tax Incentive Promise

Trust Bloomberg Tax for the international news and analysis
to navigate the complex tax treaty networks and global business regulations.

By Peter Hill

Large and multinational companies operating in New Zealand can factor in overseas
research and development expenses when a new 12.5 percent tax credit takes effect,
part of the country’s ambitious plan to attract and boost businesses.

The new research and development
incentive will apply to businesses incurring relevant expenditures starting on April 1, 2019.
The creation of the incentive was foreshadowed by the Labor Party in the run-up to
last year’s election.

The government announced the credit on April 19, just two days after the International
Monetary Fund lent its support to the New Zealand government’s post-election promise
to work to increase spending on research and development to 2 percent of GDP over
10 years.

“An R&D tax credit, if well designed, would be an efficient instrument to support
R&D spending in the business sector,” the IMF
said April 17 in its Staff Concluding Statement of its 2018 Article IV Mission to New
Zealand.

In releasing the proposal for comments and feedback April 19, the Minister for Research,
Science and Innovation, Megan Woods,
said that currently New Zealand was spending only 1.28 percent of GDP on research and
development, which is much lower than the OECD average of 2.38 percent.

A new tax incentive “needs to be in the government’s toolkit” if the country is serious
about lifting its spend on R&D to 2 percent of GDP, David Snell, New Zealand tax policy
leader for Ernst & Young in Wellington, said in an email April 19.

The bottom line, he added, is “a high-risk but potentially high-reward reform.” It
needs strong administration and enforcement, and not self-assessment, Snell said,
otherwise “we will end up with an unsustainable incentive, with a potential cost blow
out and little impact on innovation.”

Overseas R&D

Recognizing that some businesses aren’t able to carry out all their research and development
in New Zealand, the government suggests allowing the projects to be eligible for the
tax credits if less than 50 percent of the activity is carried out overseas.

As long as that threshold isn’t breached and the overseas work is part of a research
and development project based in New Zealand, a business will able to claim the 12.5
percent tax credit for up to 10 percent of the overseas expenditure.

Snell said that while it’s clear the government’s intent is to encourage the activity
to be carried out in New Zealand, the 10 percent overseas allowance recognizes that
not all projects fit neatly into country boxes.

“I’m sure the 12.5 percent tax credit will be a factor in overseas companies’ decisions,
but so too will be factors around where the skills and resources exist to get the
best research outcome,” he said.

R&D Definition

The government says the definition of research and development “must be clear and
robust and as practical as possible” with “very little ambiguity” as to what activities
will be eligible for the tax credit.

The core concept of research and development is proposed to be “to advance science
or technology through the resolution of scientific or technological uncertainty.”

Snell said there is a lot of work to do on how that applies to particular activities,
notably software development.

“In terms of eligible expenditure, I think the proposal to exclude activities that
don’t have the sole purpose of R&D is unduly restrictive. I understand the need for
safeguards, but perhaps ‘dominant purpose’ or similar would be more realistic,” he
said.

High Threshold and High Cap

To be eligible for the tax credit, the government wants the expenditure bar to be
at least NZ$100,000 ($73,024) in a given year. Snell said that this is “on the high
side, especially for a government which wants to encourage growth in the SME sector.”

However, he was “pleasantly surprised” that the annual cap on eligible research and
development is proposed to be NZ$120 million.

“No arguments that, as I accept the government is operating within a fiscal envelope
and can’t risk creating a completely open-ended incentive,” he said.

Timeline

The deadline for submissions on the government’s proposals is June 1, 2018.

Legislation is likely to be introduced into parliament in September and passed before
the April 1, 2019 commencement date.

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